Buffer ETFs: protection, illusion or expensive reassurance?
- Robin Powell
- 2 hours ago
- 5 min read
Buffer ETFs promise to limit losses when markets fall, in return for giving up some upside. With BlackRock now offering them to UK investors, it’s worth asking whether that reassurance genuinely improves outcomes or simply feels comforting.
Market falls are emotionally hard to live with. Even investors who say they’re comfortable with risk often find that confidence evaporates once losses arrive. Selling feels like action. Sitting tight feels reckless.
That gap between what markets deliver and what investors actually earn is well documented. It’s why products promising protection attract attention whenever volatility rises.
That’s where buffer ETFs come in.
What is a buffer ETF?
A buffer ETF uses options to provide partial downside protection over a fixed period, usually one year, while capping gains if markets rise. Both the buffer and the cap are set in advance. The protection is conditional, not absolute.
Here’s the simplest way to think about it. If you invest in a 10% buffer ETF and the market falls seven per cent over the outcome period, you lose nothing. The buffer absorbs the decline. If the market falls 22%, the buffer protects only the first 10%. Your return would be negative 12%. In other words, losses are reduced, not eliminated.
The upside works the same way. If the ETF has a 10% cap and the market rises 8%, you get the full eight. If the market rises seventeen per cent, your return is capped at ten.
To put it another way, protection on the way down is paid for by giving up part of the upside.
Buffer ETFs have been popular in the US for some time and have now reached Europe. BlackRock has launched a ranmge of buffer ETFs on the London Stock Exchange, making them accessible to investors here for the first time.
For UK investors, this isn’t unfamiliar territory. Structured products and precipice bonds once made similar promises, with mixed results.
The question is whether buffer ETFs genuinely improve outcomes, or simply repackage an old trade-off.
Volatility isn’t the real problem
Market falls don’t cause lasting damage. Behaviour does.
Investors don’t usually sell because expected returns have changed. They sell because losses feel personal and frightening.
Behavioural research explains why. Kahneman and Tversky showed that losses are felt far more intensely than gains of the same size (Kahneman & Tversky, 1979). Knowing this doesn’t stop it happening.
Real-world data backs it up. Morningstar has repeatedly found that investors tend to earn less than the funds they invest in, largely because of poor timing.
This isn’t ignorance. It’s stress. Buffer ETFs appeal because they promise to make that stress more tolerable.
What buffer ETFs do, and don’t
Buffer ETFs don’t remove risk. They change where it shows up.
BlackRock’s UK-listed funds illustrate the structure clearly. One is designed to absorb roughly the first 10% of losses on the S&P 500 over the outcome period. Another aims to protect against all losses within that same window. In both cases, gains are capped.
Those outcomes are engineered using options. You don’t need to understand the mechanics to understand the consequence: protection is bought by selling away future returns.
Timing matters. The buffer and cap apply only over the defined outcome period. Buy at the start and hold to the end, and you may get something close to the advertised outcome. Buy late or sell early, and results can differ sharply.
There’s also no long track record. These are new products. We can describe how they’re designed to work. We can’t yet show how investors will actually use them through a full market cycle.
The price of protection
The main cost of buffer ETFs isn’t the fee. It’s foregone return.
Capping the upside means lagging the market in strong years. Over long periods, markets rise more often than they fall.
That matters most after drawdowns. Some of the strongest equity returns historically arrive soon after the worst declines. Miss those rebounds and the damage compounds.
This trade-off is illustrated in recent research on US-listed buffer ETFs tracking the S&P 500. The researchers compared them with a simple balanced portfolio made up of 50% equities and 50% short-term US Treasuries.
Across 10, 12 and 20% buffer ETFs, Horstmeyer found that average risk-adjusted returns were broadly similar to the balanced portfolio.
The difference came from costs. Once total fees rose above about one per cent a year, buffer ETFs underperformed the simple do-it-yourself alternative. The balanced portfolio used in the study cost about 0.20%.
This isn’t a perfect comparison. The data is US-specific and covers only a limited period. But the conclusion is clear: smoother returns don’t require complex engineering. They can be achieved by adjusting asset allocation.
There’s also path dependency. Buffers and caps are set using option prices that reflect market fear at the start of the period. When anxiety is already high, protection is expensive and upside potential shrinks.
And you pay that price even if markets don’t fall.
Why buffer ETFs feel reassuring
Buffer ETFs solve an emotional problem, not a mathematical one.
The word buffer matters. It suggests cushioning and safety.
Framing does the rest. “10% downside protection” sounds comforting. “Capped returns in strong markets” sounds less so, even though they describe the same structure.
Defined outcome periods add to the appeal. Clear terms feel orderly in an uncertain world, even if markets and investors rarely behave neatly within calendar windows.
Complexity plays a role too. When something is hard to understand, it’s easy to assume it must be sophisticated. UK investors have seen where that thinking can lead.
What actually helps investors
Staying invested is easier when portfolios are built to be lived with.
Diversification and asset allocation do most of the work. Long before buffer ETFs existed, investors managed drawdowns by holding assets that don’t all fall at the same time.
Time horizon matters. Money needed soon shouldn’t be exposed to equity risk at all. Longer-term money can take more risk because it has time to recover.
Simple portfolios are easier to rebalance, easier to explain to yourself, and easier to stick with when markets are falling. Complexity doesn’t just add moving parts. It adds reasons to interfere.
Where buffer ETFs might fit
Buffer ETFs may appeal to investors who are determined to stay in equities but know they’re close to their emotional limit.
Used deliberately, in a small slice of a portfolio, with a clear understanding of the cap on returns, they may reduce the temptation to sell at the worst moment.
But they are not a substitute for planning.
Before you buy one, ask yourself:
What problem are you trying to solve?
How long will you hold it?
What are you giving up if markets rise strongly?
Would a simpler change achieve the same result?
And would you still want it if markets felt calm?
The bottom line
Buffer ETFs exist because investing is hard to live with, not because markets are broken.
They offer reassurance. Sometimes that reassurance has value. But it always has a cost, often paid quietly over time.
You can’t engineer uncertainty away. You can only decide how much of it you’re willing to live with.
That decision matters more than any product label.
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